In these turbulent times, the Smith & Williamson Matching Share Plan is more attractive than ever to employers and employees alike. A share incentive which does not feel like value for money will not do its job. The tax charges associated with a share award are a key part of this, with the 45% tax rate for additional rate taxpayers.
It is common to reward employees with shares and to attach forfeiture conditions which will apply if the employee leaves before the award has been fully earned. The Smith & Williamson Matching Share Plan provides a way in which this can be achieved and employees can be treated like other investor shareholders from the date they acquire the shares.
What is a MSP?
The MSP is an employee share incentive arrangement which is designed to encourage employees to take an ownership in the shares of the employer company. Used by listed and privately held companies alike, the MSP can be used to increase the potential value of an employee’s ‘buy one, get one free’ award.
Why use a MSP?
The main benefit of the plan is that it fixes the amount of income tax payable by the individual at the start of the plan. As the forfeiture conditions are taken into account, the amount of income tax and national insurance contributions (NIC) is based on a value which may be considerably lower than the market value of the shares at that time. Any increase in value of the ‘matched’ shares is then taxed under the capital gains tax (CGT) regime at the main rate of 28%, for a higher rate taxpayer.
Providing employees with an opportunity to acquire shares on a preferential basis also ensures that employers are able to recruit and retain high quality individuals.
How does a MSP work?
The employee can either already own shares in the company or acquire shares at market value (‘the purchased shares’) in the employer company, often with a loan facility. The employee will be provided with further shares, either for free or at a discounted price (‘the matched shares’). As part of the arrangement, the purchased shares are restricted from sale for a period of time and may be subject to forfeiture conditions. The matched shares may also be restricted from sale for a period of time, but are not subject to the forfeiture conditions.
The MSP can be combined with annual cash bonus arrangements where payment of part of the employee’s bonus can be deferred into the MSP. The deferred bonus amount effectively funds, by way of a loan secured against the shares, the acquisition of the purchased shares.
Advice should always be sought as to the accounting consequences of any share incentive scheme as the accounting rules are complex and will be determined by reference to the detailed terms of the scheme. Where a MSP is linked to a bonus scheme, the accounting will also be affected by whether the employee is offered a choice or is required to purchase shares and is then required (or given a choice) to match those shares.
Under both UK GAAP (current and FRS 102) and IFRS the MSP will, in part or in full, be regarded as a share-based payment arrangement, with the detailed accounting treatment being determined by reference to the terms of the plan.
Where there is a share-based payment, that part of the charge to the profit and loss account will be calculated by reference to fair value at grant date using an appropriate financial model. The period over which the charge is made will be determined by the terms of the arrangement.
In circumstances where an employee benefit trust (EBT) is used to facilitate the arrangement, both UK GAAP (current and FRS 102) and IFRS require that the shares are reflected in the accounts of the company even though the shares will be held in a separate trust. The detailed accounting differs between UK GAAP and IFRS but has a similar overall effect of including the amounts paid for the shares by the trust on the balance sheet within reserves.
Provided the company is not close for tax purposes, a corporation tax deduction might be available in respect of a waiver of a loan to acquire the shares. If the company is close and there is a loan to a participator, consideration would need to be given as to whether a charge arises under the loan to participator rules. If the employee loan is written off, the tax treatment of the loan on write off will depend on whether the company is close.
Income tax and NIC
The employee pays income tax on the value of the matched shares awarded to him, taking the conditions on the purchased shares into account. If the acquisition of the purchased shares is arranged with loans secured against the shares, the loan can be interest free or interest bearing. To the extent that the loan is interest free or provided at a rate lower than the HM Revenue & Customs (HMRC) official rate of interest, there would be an income tax and NIC charge on an imputed rate (4% per annum at the time of publication).
If the employee is a full time working director of a close company, the imputed tax charge should not apply.
If at any time the loan is waived by the company, an income tax and NIC liability will arise unless the company is close. However, if the company is close, the loan waiver will be treated as a dividend and taxed at the dividend rate.
Capital gains tax
Once the shares are acquired, the employee is in the CGT regime so that any increase in value is treated as a capital gain.
For whom is a MSP suitable?
The use of a MSP would be particularly attractive to the types of employers set out below.
- Companies seeking to align the employees’ interests with those of the company and other shareholders to ensure future growth of the company.
- Companies looking to lock-in key employees in the medium term.
- Companies seeking to provide shares to employees without the employees having to expend large sums of cash up front.